1 April 2003
Taxation of Representative Offices in Russia
Our firm intends to start business in Russia. We sent our representative to your country to assess the business environment and market conditions, and look for possible partners. Russian tax authorities, however, demanded that our representative should pay profit tax - though our firm is not conducting any commercial operations in the country. The tax people motivated the demand by saying that there is no agreement between Russia and Brazil to avoid double taxation. In our view, such practices worsen the climate for foreign business in Russia.
N. K. Enterprises, Sāo Paulo, Brazil
At the request of Diplomat, Dmitry BESEDIN, a partner of the law firm “Besedin, Avakov, Tarasov and Partners,” elucidates the problems of taxation relative to the representative offices of foreign legal entities in Russia.
“True, the provisions of the instruction ‘On the Taxation of Profits and Incomes of Foreign Legal Entities’ issued by the State Tax Service of Russia gave quite a broad interpretation of the notion of a permanent establishment of foreign firms in order to involve as many tax-payers as possible into their sphere of competence. Within the Russian law, however, the international agreements signed by Russia---including those to avoid double taxation---have priority over the domestic legislation. For this reason, the firms’ representations from over fifty countries, with which such agreements exist, have not had any serious problems. The problems were arising for representations from those countries, with which Russia did not have or had not yet ratified tax agreements: these are virtually all the countries of South and Central America, those of the Caribbean Sea, most countries of South-East Asia, as well as Australia and New Zealand. Those representations fell under the regulation of the law ‘On the Taxation of Profits of Enterprises and Organizations’ as well as the above-mentioned instruction of the State Tax Service, giving a broad interpretation of their tax-paying status irrespective of the nature of their activity on the territory of Russia.
Article 25 of the Tax Code of the Russian Federation ‘Tax on the Profits of Organizations’ that was brought into force since January 1, 2002 changed substantially the notion of a “permanent establishment of a foreign organization,” which is a key notion in the system of taxation for foreign corporate entities on the territory of Russia. It was a change for the better in terms of the status of the representations from countries that had no tax agreements with Russia: now, those establishments that do not draw incomes from their activity on the territory of Russia do not have to pay profit tax.
To illustrate the favorable aspects of the changed Russian legal norm, I will refer to a recent practical legal case we have dealt with. In 2001, the tax authorities claimed that the Moscow office of an Australian company, whose job was to gather information about the Russian market, was liable to income tax; they motivated the claim by pointing out that the office concerned was a company’s permanent establishment in Russia. As it was impossible to define the Australian company’s “Russian share” of incomes, the tax service assessed the tax to be paid using a “conditional method,” taking into account the actual expenses of the Moscow office. (The instruction ‘On the Taxation of Profits and Incomes of Foreign Corporate Entities’ allows for the use of such method of tax accounting). On the advice of our law firm, the Moscow office of the Australian company made a statement to the tax-collecting body disclaiming that it was a permanent establishment of a foreign firm - referring to Article 306 of the Tax Code of the Russian Federation. The article in question establishes that the keeping of a permanent place of activity of a foreign organization with the sole object of gathering and disseminating information, advertising and studying the market of goods (works, services) marketed by the organization, if those activities are not its primary activities, does not lead to the creation of a permanent establishment of such an organization in Russia. Beside the statement, they submitted the factual evidence that the office of the Australian company was not conducting any profit-yielding activity on the Russian territory. On considering the statement and the evidence, the tax authority stopped charging profit tax on the office of the Australian company, conforming to the provision of the Tax Code.
That article of the Tax Code provides clearly enough that the preparatory or auxiliary activity of a foreign company on the Russian territory does not lead to creation of a permanent establishment. Such an activity particularly includes: the use of facilities and the keeping of the stock of goods belonging to a foreign company, with the sole object of keeping, displaying and/or delivery before the beginning of such delivery; the keeping of a permanent place of activity of a foreign company with the sole object of purchasing goods by this foreign company or gathering and disseminating information, advertising, and studying the market of goods (works, services) marketed by the company, if those activities are not its primary activities; the keeping of a permanent place of activity with the sole object of signing contracts.
Concluding, I would like to note that in the Russian tax legislation there remain still a number of legal provisions that may embarrass or cause trouble to Russian and foreign business. Lately, however, the prevailing trend has been to remove them. So, to those foreign organizations that are doing or going to do business in Russia my advice is, keep up with on-going changes in the legislation as closely as possible.”